During today’s Congressional testimony Fed Chairman, Ben Bernanke, was confronted by Rep. Ron Paul with the question, “Is gold money”? (see video below) The Chairman answered, “no” and went on to say the reason why central banks hold gold is because of “tradition”. Interesting!
In prior posts we’ve written about how difficult it is to even to define money, much less measure it. The traditional and most basic test is does the object – piece of paper, commodity, item — act as a: 1) medium of exchange; 2) store of value; and 3) unit of account.
Though gold has not yet become a widespread medium of exchange, that is, used to transact in the marketplace, or used to price goods as a unit of account, it certainly seems to have become a standard international store of value. Many of our very smart friends tell us they are more uncomfortable holding cash dollars than almost any other asset class and would rather hold gold or other commodity ETFs. From what we read, the Chinese government and other central banks seem to feel a similar discomfort. Can you blame them with negative real interest rates?
Given the ease at which one can now convert, say the gold ETF, GLD, into purchasing power, we would argue that it, or any commodity or asset, for that matter, is becoming a quasi-medium of exchange. For example, a $100K brokerage account fully allocated to GLD can write checks on the balance, either using margin or selling down a portion of the position. The ease at which the yellow metal can be held and converted into purchasing power increases its use as a medium of exchange and therefore makes it money.
During our graduate school days when monetarism was in crisis as the relationship between money supply figures and GDP started to unravel, the Fed toyed, or at least, researched the possibility of including equity mutual funds in the money supply figures. During the dot.com boom, for example, stock options were widely used in Silicon Valley as a medium exchange. Stories of restaurants and other vendors taking stocks options as a means of payment from start-ups were widespread. Furthermore, the ease at which homeowners could convert their equity into purchasing power – the “Housing ATM” – also made even the most illiquid of assets a form of money during the height of the bubble.
This illustrates how difficult or even impossible it is for central bankers to pursue a stable monetary policy and the danger of the unintended consequences of negative real interest rates. Monetary policy is, at best, a “black box”, in our opinion, and it’s about time the academics, who justify every commodity or asset price spike (including housing) as a result of the “fundamentals,” start to humble themselves and admit that it is so.
One last point. We do agree with Chairman Bernanke that gold’s intrinsic value is steeped mainly in tradition, has limited practical use, and has value only if it is perceived to have value. After all, at the end of the day “you can’t eat gold.”
This is why here at Global Macro Monitor we are among those who believe gold is beginning to share its store of value status with other commodities, such as energy and foodstuffs, which have a more intrinsic and practical value. As we mention above, the growing ease at which one can hold commodities and convert them to purchasing power will accelerate this transition.
Quantitative easing therefore becomes much more difficult as gold, a relatively benign store of value, where relative price spikes hurt a limited population, shares its store of value status with other commodities, such as food and energy. Relative price spikes in these commodities are not so benign, however, and can, and have, toppled economies and governments. Godspeed, Ben Bernanke.
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I know that Chairman Bernanke had a huge part to play in our deteriorating economic condition and what will likely end up being a lost decade in the US. Still, I couldn’t help but feel bad for the guy; it looked like he was going to have a nervous breakdown after this latest encounter with Ron Paul.
Thanks for the post, Jordan. We agree. He looks battered and we feel for him. At his last press conference he looked like Ph.D. student who had just failed in comprehensive exams. Maybe he’s realizing his models are flawed? Nevertheless, we give him big kudos for his decisive action during the crisis. Totally disagree with current policy of negative real rates and QE, however.
I hate to Monday morning quarterback Bernanke. Even for someone like myself who holds the position that government intervention is always a long term net loss, it’s hard to argue a bailout/stimulus situation of a -10% drop in GDP followed by a decade of 3% growth than a laissez-faire -25% drop followed by a decade of 5.5% growth; while the latter is better in terms of overall growth, no doubt it would have also been accompanied by far greater social unrest and disruption.
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Yes the fed has lost control of money. If you define it narrowly as legal tender, it has no more relevance to the economy than the production of toothpicks has for global calorie consumption. If you define it broadly enough, it is not even measurable much less controllable by the fed. The fed controls the economics of the regulated banking sector vis-a-vis unregulated financial intermediation. The fed can act as an investment bank itself when it buys bonds with interest-bearing excess reserves. The fed has a legitimate role when the financial markets as a whole are in a state of panic. But I doubt that the fed even controls short-term interest rates outside of a narrow band.
Thanks for the comments, C, with which we agree.
Gold was treated as money world wide, until some US President (Rosevelt) decreed that it was not money, not for US citizens. Remember the President (Roosevelt) who confiscated all individual gold holdings back in the 30’s through emergency powers, including gold coins held in our safe deposit boxes. Then he revalued gold. If it was not money, then what was he confiscating? Notice that the President did not confiscate paper money. Then remember the President (Nixon) who stopped converting the US$ into gold, after DeGaulle converted US$4 billion into gold. To continue to do so would have emptied Fort Knox since we had printed more paper money than there was gold backing it. If gold was as useless as Bernanke makes it out ot be, showing his ignorance), why do we hold gold in Fort Knox? Would this be an example of government waste? I would rather hold a bar of gold than Bernanke’s deteriorating printouts. Remember the President (Ford) who then allowed Americans to own gold again, reversing another President’s (Roosevelt) decree. The gold/money flip/flops by US Presidents are just that. In the rest of the world, Gold can easily be used as money, more accepted any currency. They will readily/happily change your Gold into all the worthless curencies you want.
So Ben does not know what he is talking, or doing. Ben should resign at once. Retire to write fiction. He has done immeasurable harm to the US$.
The paper money in the old days were called gold/silver. certificates
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This is high drama at its best. Only happens in the US of A.
The amount of gold in circulation stays relatively constant – gold mining produces about as much as we lose from industrial usage. Due to fractional reserve banking, the number of dollars in circulation increases over time: dollars are created in huge sums every day by private banks. This means that the value of gold has actually been constant, in terms of buying power, while the value of the money is decreasing.
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