Friday, September 11, 2009
Let us take a trip back in time to visit the first users of gold. We'll travel back 6,000 years to the very end of the Stone Age, a period where the first metal tools start to appear along side the stone tools that were used for the previous 6,000 years. This was a time of human transition, sometimes called the "copper age" or the "bronze age", followed by the "iron age".
Stone Age tools
During this period of time we see the emergence of agriculture which allowed for the storage of food which created the first cities that could support the first division of labor. We also see the emergence of the first long-distance trade routes between cities and civilizations. 5,500 years ago we see the emergence of Mesopotamia, "the cradle of civilization", on the Tigris and Euphrates rivers in modern-day Iraq, followed a couple hundred years later by Egypt on the Nile.
The discovery of metal literally changed the world, bringing it out of the stone age and into civilization. This "cradle of civilization", called "The Fertile Crescent", was also the birthplace of writing, recorded history, and the wheel!
During these ancient times, the force which most drove the development of civilization was trade. Trade, or commerce, allowed the division of labor to flourish and spread. But money had yet to be conceived. To ancient man, trade meant the exchange of real goods. Spices, silk, oils, incense, ivory and live animals were popular long-range trading items because they were transportable and durable. But for one who was setting out on the trade road with his camel bearing the weight of his goods, one item stood out head and shoulders above the rest.
That item was gold. Its most precious quality was that it always traded for the most goods, especially on the road. In town, you could trade your perishable items directly for other needed items. But on the road, gold ruled.
I can imagine that the first man to trade gold would have offered it at a pretty low price. But as the shiny metal began to circulate throughout this young economy, its unique qualities quickly raised its value above all else. Gold was a beautiful, soft, malleable metal. It was easily divided, melted or bent into form. And it was rare, in an age when metals were just coming into wide use.
Bronze Age weapons
As copper, bronze and iron quickly found their place in agricultural tools, cooking wares, weaponry and armor, gold found its home in the luxury of kings! And once again, this gold was not money. It was simply one of many metals and trade goods. But it was by far the best. You might find it difficult to trade silk to a pig farmer for a pig, especially if that farmer had no wife. But you would have no trouble trading gold for whatever you needed as it found its ultimate backing in the lust of kings and giants.
Store of Value
As division of labor matured, a new need arose in this ancient economy. Through division of labor, some men were able to find a trade craft at which they especially excelled. No longer did everyone have to spend half the day tending to food. Some men were able to produce goods of a value in excess of their own daily needs. And for this, a good store of value was needed so that men could hoard their productive efforts for later use.
As the exchange good which brought the most value in trade for its weight, gold quickly became the store of value of choice. And it also had other important qualities which made it an excellent store of value for these ancient "super-producers".
Because gold was proving itself most valuable as a mere medium for trade and as a luxury for kings, it was not used in essential activities like fighting and cooking. So an ancient "mogul" could hoard as much gold as he could muster without depriving his countrymen of the necessities of life. It was a stand-alone store of value that did not invade the rights of others to their share of the limited resources necessary to the support of life.
It was completely durable. It did not rust, tarnish or rot. And it was soft and malleable making it easily divisible when called upon for trade. It was rare and difficult to remove from the earth, and most importantly, it was coveted by kings! Its value was assured and backed by the lust of Giants!
What needs to be understood from this story is that gold, as a simple good for trade, assimilates the qualities of our modern understanding of money. And not only that, but it is democratically elected through unanimous participation for this singular task. In the monetary and currency vacuum of antiquity, gold became both the medium of exchange par excellence, AND the store of value of choice for kings and commoners alike. This was natural selection. This was evolution!
The first known use of the word 'money' was in the 1200's at the height of the Dark Ages which ran from the fall of the Roman Empire in 476 AD until the Renaissance of the 1300's. [To be fair, I should note that modern academics (who also notably embrace Keynes and Marx) no longer refer to this period as "the Dark Ages". It is now called "the Middle Ages".]
The word 'currency' did not enter the lexicon until more than 400 years later, in 1699, 12 years before the founding of the South Seas Company and 21 years before the infamous "South Seas Bubble" which cause massive international financial ruin.
I bring this up because the very concept of money and currency is most certainly a modern construct that has been imposed on gold to the detriment of society at large. Historically, gold filled two purposes by popular demand. It quickly evolved into the medium of exchange of choice in the absence of any forceful government interference. And it has, for 6,000 years, filled the need for a durable store of value that does not infringe on the rights of any other living human being.
The coinage of gold in ancient times marks the emergence of a third function. By coining gold, it also became a standardized unit of account. This not only made trade easier, but it also allowed for the emergence of taxation!
The first gold coins were made by the Egyptian Pharaohs around 2700 BC and were given as gifts from the king, not circulated in commerce. Not until more than 2,000 years later, around 560 BC, did gold coins start circulating. From that point in history, gold coins have had a very long run as 1) a medium of exchange, 2) a store of value and 3) a unit of account. This run lasted from 560 BC until 1933, a total of almost 2,500 years!
Through most of this 2,500 year history, gold coins functioned and circulated solely because of their intrinsic premium ability to fill an essential need. Only in modern times has man's collectivist association found selfish advantage in legislating a specific, faulty medium of exchange and a unit of account.
Survival of the Fittest
The next stage of this evolution is upon us today. Society's collective ambitions have betrayed the working producers of the world. And now no store of value endorsed by the collective is safe. Yet physical gold's store of value function is still backed by the desire of kings and giants all over the world (e.g., India, Arabia, China, Russia, Central Banks... all physical gold advocates - all net accumulators).
As a collective society engaged in the stealthy proliferation of contractual paper debt, we have evolved a paradox in which it is commonly understood that more wealth comes from less work. The individual has forgotten the age-old wisdom that he is responsible for his own well being, and exchanged it for the illusion of collective responsibility.
The individual still claims all the rights which have been hard won through centuries of blood, sweat and tears, yet now he shifts the obligation of providence onto the collective. Now in full, unstoppable, political swing, this movement has turned the world's producers and savers against the infantile collective. Their goals and desires are no longer aligned. Their future plans no longer coincide. Their support for each other, no longer exists. The warning bell has rung.
This debauchery has led to the rediscovery of gold by individuals the world over as a self-defense reflex against the lust of the collective. Gold will increasingly be held privately and physically as all other "on the record" stores of value are taxed and pillaged to oblivion by the hungry collective. This cycle will continue, growing exponentially, until the hunger is broken through either starvation or a return to responsible production.
3 Stage Rocket
Some say that biological evolution happens in fits and starts, a theory called "punctuated equilibrium". It states that evolutionary change is characterized by short periods of rapid evolution followed by longer periods of stasis in which no change occurs.
In economic terms, we have just entered one of the rare short periods of rapid change. And in so doing, an unparalleled opportunity is presented to all commoners who would hold physical gold through the duration of this "punctuation". It is a de facto transfer of wealth that will rival some of the greatest windfall gains in history.
Imagine with me a three stage rocket which has just launched to take us to our next level of stasis and equilibrium. In the first stage of this ride, the fractional reserve paper market for gold will break up and all the existing gold demand will rush from paper into physical. These are the "gold bugs" that were fooled into paper promises. This stage represents a newfound equilibrium between already existing supply (physical gold) and demand (all gold investors). You can do your own calculation of the ratio of paper gold to physical, but I will tell you it is not small.
The second stage of this rocket ride begins as the first stage propellant (paper gold market) is jettisoned. During this second stage we will witness the massive force of trillions of dollars as dollar reserve holders all over the world bid on rising physical gold as there will be not much else for them to do with their dollars at that point.
As the first stage brought "the gold market" into equilibrium, this second stage will bring "the dollar" into equilibrium, as it finally reaches a depth of value to match its long term history of over-creation - 50 years worth!
The third and final stage of the rocket ride could be called "the momentum effect". Seeing the first two stages in full swing, everyone else will rush out of any paper asset still liquid enough to obtain even a tiny amount of gold. And with this stage will come the hyperinflation in the prices of all other real goods as the US Fed frantically prints more dollars to pay the government's nominal obligations in addition to its hyperinflating daily expenses.
This printing response will add fuel to "the momentum effect" stage rocketing it from what would normally be a bubble into a sustainable rise which will only plateau once the madness ends.
And may I remind you, the madness has only just begun.
When things finally settle down, we will enter a new era of equilibrium. Some things will remain the same while others will have changed forever. Here are just a few of the changes I imagine.
Gold will trade in physical form only. No longer will the owners of gold trust the custodianship of foreign nations.
Fiat currencies will still function in trade and as a unit of account, repositioned at their new values, wherever debt is required. But they will have to undergo a process of credibility re-establishment, much like a bankrupt individual, before they will ever again be used by people as a reliable store of value.
For producing individuals and nations alike, gold will become the wealth reserve of choice for the preservation of purchasing power earned through productive labor. Believe it or not, I think that our freshly neutered governments will support this development as they will ultimately view it as the only means to slowly rebuild what has been lost, in a sustainable way.
So am I an optimist or a pessimist? I guess that is for each individual to decide. But I'll give you a tip. Get some physical gold before you think too hard on it!