25 August 2023
Ziņas un Viedokļi
A Visual History of Gold (and Silver): Money, a Barbarous Relic, a Go-Nowhere Investment, and BRICS Money Again?

There are rumors circulating in the financial community that the BRICS countries are poised to announce the creation of a new gold-backed currency.

Furthermore, in the best traditions of conspiracy theories, it is assumed that this could happen this August during a forthcoming summit in South Africa. It can be recalled that this was in August 1971 when U.S. President Richard Nixon announced that the U.S. was “temporarily” abandoning the gold standard and, subsequently, the convertibility of U.S. dollars into gold at a fixed price of $35 per Troy ounce. There is nothing more permanent than something temporary…

Gold and its younger sibling silver finally became just “barbarous” relics and “go-nowhere” investments. Ironically, it did not prevent both metals from demonstrating astronomical price rises versus rapidly depreciating fiat money.

So why has there been so much talk about these metals for thousands of years?

Let’s take a walk through a visual history of gold and silver.

For more than 3000 years gold and silver served as a real means of preserving wealth and savings. The anecdotal allure of both metals is related to the fact that (see Picture 1 below).

  • in 1979: the average price of one Troy ounce (t. oz.) of gold was $306.68. That was enough to buy a large bed in America

*44 years later: the price of one Troy ounce of gold is about $1,910. This is still enough to buy a large bed.

  • in 1963: a gallon of gasoline in America cost $0.31. This meant that three silver 10-cent coins could buy a gallon of gasoline. The total weight of silver in these three silver coins was 0.217 Troy ounces.

*60 years later: 0.217 Troy ounces of silver ($4.88) can still buy a gallon of gasoline.

  • in 600 AD: in the Middle East during the time of the Prophet Muhammad, a family could buy a live chicken for one silver dirham (3 grams of silver).

*1400 years later: a family in the Middle East can still buy a live chicken for 3 grams of silver ($2.17).

  • in 1 AD: a Roman citizen could purchase a toga (i.e., a suit), a leather belt, and a pair of sandals for one Troy ounce of gold.

*2000 years later: one Troy ounce of gold ($1,910) still buys a suit, a leather belt, and a pair of shoes practically in any part of the world.

  • in 400 BC: at the time of King Nebuchadnezzar of Babylon, 350 loaves of bread could be purchased for a Troy ounce of gold.

*2400 years later: you can still buy 350 loaves of bread for one Troy ounce of gold ($1,910 / 350 = $5.46 per loaf).

  • in 1000 BC: historical sources indicate that King Solomon purchased horses in Egypt for his army. They also show that he paid 150 shekels of silver for one horse. 150 shekels was equal to 55 Troy ounces of silver.

*3000 years later: you can still buy a modest work horse for 55 Troy ounces of silver ($1,238) in many parts of the world.

Money Is Power, Gold Is the Kings’ Money, Silver Is the People’s Money

How fast did it take for the Roman and U.S. money to lose their value? The Roman monetary system was bimetallic: due to its lower value, silver was primarily used for transactional purposes, while gold was predominantly used for storing value. In around 200 years the price of silver rose almost 2.4 times in terms of Roman denarii (silver coins). During the Crisis of the Third Century, it rose 8.4 times, in just 32 years. The price of gold rose by 80% in terms of Roman aurei (gold coins) in 355 years (see Picture 2 below).

Since 1971, the price of gold has risen almost 43 times in terms of U.S. dollars, while the price of silver has risen more than 16 times. Probably, now it is much easier to understand the old maxim that “Money is power, gold is money.”

In Terms of Currency Stability Roman Emperors Easily Beat U.S. Presidents

Life under the gold standard was quite simple, harsh, and dynamic: during the 19th century and early in the 20th century the United Kingdom and the United States — the centers of the global financial system — experienced financial crises and panics every 8–10 years. But the gold standard system also had one advantage: stable prices (see Picture 3 below). Central banks simply did not have the ability to “adjust” the money supply, so periods of inflation alternated with periods of deflation.

Life Under the Gold Standard Was Quite Simple, Harsh, and Dynamic. But the Gold Standard System Also Had One Advantage: Stable Prices

The dismantling of the gold standard system took place gradually (see Picture 4 below). Early in the 20th century, following the dramatic financial panic of 1907, the U.S. government decided to regulate the financial system more thoroughly by establishing the Federal Reserve System — the U.S. central bank — in 1913.

The Dismantling of the Gold Standard System Took Place Gradually

During the Great Depression, the U.S. government even resorted to seizing gold from private citizens at the official price of $20.67 per ounce just to revalue it at a price of $35 per ounce a year later. It seized private holdings of silver in 1934, though the terms of confiscation were somewhat softer (see Picture 5 and Picture 6 below).

Harsh Times Call for Harsh Measures
Killing Me Softly

In August 1971, U.S. President Richard Nixon announced that the country was completely abandoning the gold standard. This meant that the U.S. government abandoned the convertibility of U.S. dollars into gold at a fixed rate of $35 per ounce. It is needless to say that the suspension of convertibility was presented as a “temporary” solution (see Picture 7 below).

There Is Nothing More Permanent Than Something Temporary

As a result, in the past 50 years we have been living in a new, experimental world of fiat money where the money supply is regulated to smooth the fluctuations of economic cycles. Perhaps the economic downturns have become milder due to the support of central banks but at the expense of higher consumer prices and asset values. It is interesting to note that the pace of technological progress began to decline in the early 1970s too (see Picture 8 and 9 below) Maybe people have become over-reliant on central banks and less reliant on their ability to get out of difficult situations on their own?

We Have Been Living in an Age of Inflation
More Fiat Money Can Reduce Economic Fluctuations. But It Cannot Become a New Perpetuum Mobile.

Despite the fact that the famous economist John Maynard Keynes once called the gold standard system a “barbarous relic”, while the business partner of the equally famous investor Warren Buffett Charlie Munger believes that gold is a go-nowhere asset class and that “…civilized people don’t buy gold”, gold’s appeal as an investment product, a safe asset and simply as a jewelry metal does not show any signs of decline. Why?

Gold has clearly benefited from at least three thousand years of its use in the financial system. But taking a rational look at the situation, we must admit that there are many other objective factors that support gold’s continuing appeal.

First, gold prices are much more stable compared to most other assets (see Picture 10 below), particularly during periods of crisis, which secures its status as a safe asset and a “stabilizer” of the investment portfolio.

Investing in Gold Is Actually Pretty Boring Due to the Stability of Its Price

Second, the demand for gold persists due to the fact that during periods of instability and higher price volatility, the price of gold tends to have a negative correlation with the prices of other assets (see Picture 11 below). This implies that in situations of financial stress gold prices often rise while prices for other assets fall, thereby increasing the role of gold as a universal “diversifier” of the investment portfolio, regardless of the source of financial stress. This differentiates gold from other ways to protect the value of your portfolio by using, for example, derivative financial instruments since these are focused on protecting the portfolio against some specific risks.

Port in All Storms: Gold Trades in Opposition to Other Assets as They Become More Volatile

Third, a statistical analysis shows that there is an almost perfect correlation between the gold price, the U.S. dollar exchange rate, and real interest rates, which are affected by the level of inflation expectations, where the correlation coefficient reaches 0.94 (see Picture 12, Picture 13, and Picture 14 below). That is, the price of gold almost always climbs when the U.S. dollar exchange rate declines and real, or inflation-adjusted, interest rates fall.

Gold Likes a Weaker U.S. Dollar Exchange Rate
Gold Likes Lower Real, or Inflation-Adjusted, Interest Rates
There is an Almost Perfect Correlation Between the Gold Price, the U.S. Dollar Exchange Rate, and Real Interest Rates.

At the same time, the price correlation of a new contender for the status of “digital gold” — bitcoin — with inflation expectations has been pretty low. This strengthens the traditional role of gold as a hedge against rising inflation expectations (see Picture 15 below).

As a Hedge Against Rising Inflation Expectations, Gold Still Easily Beats Bitcoin

That is why moderate investments in gold or a basket of precious metals (gold, silver, platinum, palladium) can help stabilize it, diversify it as well as protect it from a fall in the value of your home currency, or a decline in real yields on your interest-bearing investments.

Investing in gold will not make you rich. However, it is not a go-nowhere investment product either. Rather, your gold holdings will protect you from losing what you have already accumulated.

So what is ultimately behind gold’s appeal? Samuel Johnson put it very well back in the 18th century: “Praise, like gold and diamonds, owes its value only to its SCARCITY.”