I have a couple of apologies for my readers. There have been some valuable comments posted to some of my recent columns that let me know that I didn’t do as thorough a job of explaining context and providing background on some issues. My proofreaders often get on me about the same issues, but there is no perfect solution, given the constraints of this column. Often my earlier drafts of columns have to be revised as I assumed more understanding of terminology and background than the proofreaders felt was warranted. They have also sometimes asked me to change the tone to avoid talking down to my readership.
It appears that I have not done an adequate job of providing definitions for some of the technical terms I use. I had incorrectly assumed that my generally sophisticated readers understood the real definition of inflation, and not the incorrect definition of inflation as used by most politicians and those with more limited understanding of economics. I have also not explained my background so that readers realize that I am not a “gold bug.”
Perhaps the problem over too much versus too little detail started back in my sophomore year in college when I took a course in microeconomics. I wrote a term paper on monopoly, of which about half the text involved defining a long list of terms. Although I earned a top grade on the paper, my teaching fellow complained that I spent too much time on definitions. The extensive list of definitions actually helped me pin down exactly what I was talking about and clarify my thoughts, but it was obviously tedious to a reader well-versed in economics. The lesson I learned from the experience was to try to write to the competence level of who would be reading my thoughts.
Another experience from college (I attended the University of Michigan in Ann Arbor) that has stayed with me was a presentation made during my senior year by Marina von Neumann Whitman, who was then serving on President Nixon’s Council of Economic Advisers. (In 1992, Professor von Neumann Whitman joined the Michigan business school faculty, where she remains today). She accepted written questions from the audience after her speech. I was fortunate that she read and discussed my question.
My question was something along the lines of “What would happen to other world currencies if a nation were to establish as its own currency, one defined strictly by the weight and purity of gold and silver?” The reason I asked the question is that there was an effort at the time to establish a free-market nation in the south Pacific at the Minerva Reefs, where there was a significant prospect that the monetary system would be based on weights and purities of gold and silver.
Von Neumann Whitman’s answer was roughly, “First, it will never happen. No nation would ever establish a monetary system strictly based on the weight and purity of gold and silver. The political upheaval following such a step would topple any politicians foolish enough to try to do so.” But then she went on to say (and I am paraphrasing here), “However, if any such monetary system were ever established and sustained in any country, it would cause all other world currencies to fail.”
What was not explained in the response is the reason why all other currencies would fail. I consider the answer obvious and believe that most of my readers also understand, but let me be explicit to avoid any confusion. A currency of a fixed value that politicians literally cannot tinker with under any political pretext will be honest money. It will not be subject to any open or secret government’s actions that might (almost always) reduce its value. Such a currency would not depend on “the full faith and credit” of the issuing government. Instead, the currency itself would represent value. A currency of absolute fixed value would have an extreme competitive advantage over any other global currencies that were subject to being destroyed by politicians. It would become the medium of exchange of choice worldwide, meaning that other currencies would have to match the standard or effectively fail.
But, in order to match a strict gold and silver standard, politicians would have to give up all, and I mean all, government control of the currency. Unfortunately, I think there are very few politicians sophisticated enough to understand the concept of sound money (with the exception of Rep. Ron Paul [R-TX] and a few others), and perhaps even fewer would have the political backbone to support a move to sound money.
Gold and, to a lesser extent, silver have a 6,000 year track record of never failing as money. Where the use of gold or silver as part of a monetary system has failed, the problem had to do with the politicians trying to assign a fixed monetary value to a weight and purity of the metal, and then changing the definition of the fixed monetary value. A prime example occurred in 1933 where the US government had previously defined a troy ounce of gold as equal to $20.67 in US dollars, then changed the fixed value to $35.00 per troy ounce of gold. The value of an ounce of gold was still an ounce of gold. It was only the US dollar value that was changed.
Despite having such a long track record as secure money, I don’t automatically advocate that gold (or silver) be established as the base for a monetary system. It is possible something else would prove to be much more suitable as a medium of exchange and store of value in the context of today’s technological capability. I am therefore an advocate of a free market system, where all governments stay out of the business of defining monetary values. If this were actually to occur, I suspect that weights and purities of gold would tend to be the first successful form of global money–because of its long successful track record. However, gold would still have to compete against any other possible form of money. My imagination can conceive of potential competitors like units of energy or computing power.
One of the constraints of writing this column is that of time and space. It takes time to write this column, time that competes with every thing else I am doing or could be doing. Further, one of the features of this column is to try to share some insights in a relatively brief format, so that it does not require a major investment of the reader’s time to digest. So, I will periodically return to some of the issues that readers have raised (and I thank you for that as the feedback helps me to focus my own thinking), but in relatively short tidbits.
However, before I finish this particular essay, let me review the definition of inflation. Inflation is the increase in the money supply, period. It has nothing to do with changes in price levels. Rising prices tend to be a result of the act of inflation, but is not itself inflation. Politicians and some economists try to disguise this basic definition by discussing price changes as if that were inflation. By pretending to address what is the result of inflation, politicians can claim to be doing something about the problem while actually not addressing inflation at all. To really address the issue of rising prices would mean first getting rid of inflation, which is absolutely what politicians do not want to do.
Actually, in my mind, with the constant technological advances and greater efficiencies in business operations, I would expect prices to be declining every single year if the money supply were stable. It would fluctuate over time, but I think and annual average price level decrease of 3-10% per year would be typical. By my way of thinking, that means that even stable price levels really indicate inflation that is causing higher prices! So, when politicians and economists proclaim that there is no inflation or that inflation is under control, they are being doubly misleading. First, they are talking about the change in price levels rather than inflation. Second, they are referring to modest increases of price levels as a sign of a healthy economy, when it is really much worse when measured against the standard where prices should generally be falling.
Without going through the intermediate analysis, which I will cover in more depth at another time, inflation—governments’ expansion of money supplies—is the cause for rising prices (or at least the failure of prices to fall) and perhaps the main reason that a growing number of people are trying to protect themselves through ownership of gold and silver.
Message for new readers: All of Patrick Heller’s precious metals commentary for Coin Update can be found at http://news.coinupdate.com/author/path
Patrick A. Heller owns Liberty Coin Service in Lansing, Michigan and writes “Liberty’s Outlook,” a monthly newsletter covering rare coins and precious metals. Past issues can be found online at http://www.libertycoinservice.com/ Pat Heller is also the gold market commentator for Numismatic News. Past columns online at http://numismaster.com/ under “News & Articles”. His periodic radio interviews can be heard on WILS 1320 AM in Lansing, www.talkLansing.net, and on www.yourcontrarian.com.
This is the definition of inflation in the dictionary, dude:
Inflation – The rate at which the general level of prices for goods and services is rising, and, subsequently, purchasing power is falling.
Increasing money supply is not inflation.
So, my point stands – even though we DOUBLED money supply, there has not been meaningful inflation… so you’re “money printing = inflation” theory has already been proven very wrong for 2 years straight now since the money printing began. Stop the hysteria!
The other aspect of the gold/silver standard issue that she did not address, apparently, is that except for very small and unsophisticated economies that nation’s economy would descend into depressions approximately every decade as ours did from the end of the Civil War through the 1930s. Its growth would also be constrained by its gold and silver hoard.
She also apparently neglected to mention that most of our money supply is not printed money. Most of our money supply is created by private firms (mostly, but by no means exclusively, various companies performing banking or bank-like functions). And none of that is subject to the whims or failings of politicians, though they have more than their fair share of failings.
Why are my comments not going thru? The jerk comments who sound like govt trolls get thru.
If omg’s dictionary tells him inflation is a rise in prices, he should toss his dictionary. It’s taken a debt load of money to keep the banks flush with enough cash to prevent the public from seeing what would happen if they weren’t propped up. It will be a bloodbath whenever the inevitable comes but delaying it will make it much worse.
My daddy said: “Son, how many legs does a lamb have?”
“Four, daddy.”
“And if we define the tail as a leg, how many legs does the lamb have now?”
“Five, daddy.”
“No, son, the lamb still has four legs. It also has a tail you are calling a leg.”
Patrick, you can DEFINE inflation as an increase in the money supply, and say it has nothing to do with rising prices.
omg, you can DEFINE inflation as an increase in prices, and say it has nothing to do with a rising money supply.
And then you can waste a lot of energy yelling at each other. You have simply defined the word differently.
Yet you would both agree that the money supply has been increasing very rapidly, while prices have increased very little.
See? Wasn’t that easy? Can’t we all be friends?
Patrick – I posted about the gold bars in GLD on your “Massive Drain Of COMEX Silver Inventories Continues” story of a few days ago. Why are you against GLD when it is obvious all the gold is there, allocated, inspected and audited?
Here is why there are questions about GLD.
http://www.gata.org/node/8794
Heller’s economics seem to derive their own definitions that have little to do with Econ taught in Universities. I also attended Michigan and we were taught that ” In economics, inflation is a rise in the general level of prices of goods and services in an economy over a period of time.[1]”
He is also having a hard time with the concept of money. It is not nor has it ever been an activity completely controlled by a so called “free market”. Money is minted by governments and therefore it is a political act. Governments will always attempt to manipulate their creation for political ends. We may all gnash our teeth and tear our hair over this fact but the essential dynamic will remain. Gold standards were ended precisely because this type of system was difficult to manipulate.
Today, physical money has much less to do with economics than ever before because of electronic transfers, credit cards, Wall Street creations, etc. We are in an era of incredible financial complexity that defies simplistic definitions or solutions. Does anyone really understand Credit Default Swaps, Derivatives, Put Calls, etc. ? What will the financial Gremlins come up with next? Good luck to us all
@fed up – thanks for the link. That was one of the silliest articles I have ever read. I posted this comment:
“Jeff, this silliness is beneath you. Trying to find bogeymen in boilerplate legal language is goofy. The only serious question is: Is the gold there, allocated, numbered, in the vault, counted and audited? The answer, as you know, is absolutely yes.
All the gold bars in GLD are allocated and in a London facility. The GLD prospectus says: “The gold bars in an allocated gold account ar specific to that account and are identified by a list which shows, for each gold bar, the refiner, assay or fineness, serial number and gross and fine weight. Gold held in the Trust’s allocated account is the property of the Trust and is not traded, leased or loaned under any circumstances.”
GLD is audited by Deloitte & Touche. Gold is counted twice a year; every bar at fiscal yearend, and a statistically random count in the spring, with the Trustee records reconciled to the Custodian records and to the physical gold bars. The count is done by Inspectorate International Limited. No anomalies were found.
So in order for there to be a shortage of physical gold in GLD, all of the following would have to be in cahoots:
State Street Global Markets, the sponsor
Bank of New York, the Trustee
HSBC, the Custodian
Inspectorate International, the inventory counter
Deloitte & Touche, the auditor
And a couple of law firms, I’m sure
Tell me again why you are worried about “paper” gold?”
Michael, I don’t find hard to believe those entities could be in cahoots. Not saying the gold isn’t there now, but there’s no guarantee it will be in the future.
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Returning to main topic. The banks got most of the money. If there is another stimulus and money is poured into the economy, that would lessen the value of the bankers’ money. The political wrecking ball made the choice to waste money propping up the banks instead of allowing failures and liquidations at a time when we could have made a full recovery.