An Inflationary Contraction III

Duration of Debt and The Inflation Reference 

All inflations, everywhere, are preceded by a rise in the price of gold in that country’s currency.


–Alan Reynolds

This is an iron law. However, there must be a reference point from which to judge the effect of a change in the price of gold (POG). The price of gold is constantly rising and falling in a fiat system with no defined value for the dollar. Without the optimum POG as a reference, where debtors and creditors are in balance, one cannot accurately analyze the effect of changes in the spot POG.

These two truisms are necessary for properly orienting money.

Understanding gold is not related to its quantity but rather its quality. 


Gold is the center of the monetary universe because its value is stable.


–Michael Kendall

The quantity of gold only matters in that for centuries, nature has regulated gold’s annual production at a constant 1.5 to 2.5 percent of total supply. The constant preciousness of its supply, combined with gold’s unique physical monetary properties, establishes gold’s stable value and elevates it as the Numeraire

Mankind has accepted gold’s proven unique monetary properties over millennia. Since the world abandoned gold in 1971, there have been no changes to gold’s monetary properties that have altered its historical stability of value. The world simply left its monetary reference. 

All currency values and prices orbit about gold’s stable value. Any standard of reference requires a defined, unchanging value. In the monetary world, gold is the only defined value. Though gold’s value has wobble, there is nothing else that competes as a monetary standard of reference. To falsify gold’s thousand years’ history of stable value requires evidence that gold’s monetary properties have materially changed.   

Analysis of macro monetary conditions becomes skewed when politicians, economists, academia, and conventional economic wisdom put the U.S. dollar at the center of the monetary universe. It’s like trying to navigate off a random celestial star with no fixed reference when the North Star is easily visible with a known, unalterable reference.

The Federal Reserve has unlimited ability to create as many or as few dollars as it desires, yet dollar creation requires a monetary standard to define its value. Therefore, ignoring a stable reference around which to create dollars results in the value of the dollar constantly changing. When dollar currency of unstable value is put at the center of the monetary universe, everything else becomes unstable. Prices, market indices, inflation indexes, GDP calculations, foreign exchange rates, BLS statistics, etc., the totality of the financial and economic world have no defined value, and chaos is the result. We are approaching the 50-year mark of this experiment in continuous monetary chaos. And it’s getting worse. Modern Monetary Theory (MMT), the idea that there is no limit on money creation, is rising to acceptance as mainstream monetary orthodoxy. MMT basically posits that every economic problem can be solved by creating more money out of thin air. The economic ashes of Weimar Germany and Zimbabwe would disagree.

The optimum POG is the reference because it is the point where debtors and creditors are in balance.  When a currency is defined by the optimum POG, neither debtor or creditor gains an advantage over the other via monetary distortion.

The price of money is its purchasing power. If the value of money changes relative to gold, then its purchasing power changes. The optimum POG represents an adjustment of the price level to a change in the spot POG. The duration of debt defines the length of the price level adjustment.  Anytime a currency’s value changes, the spot POG changes in an inverse correlation.  If the value of a currency goes down, the POG goes up and vice versa. Daily changes in the POG are the market attempting to price the future direction of the value of the dollar. When the POG changes, the price level then begins to adjust to the dollar’s changed value. A permanent change in a currency’s value requires contracts and wages to unwind and adjust to a new price level. In a dollar centric world, changes in the POG reflect dollar instability.  

The optimum POG advantages neither creditor nor debtor over the term of their contract. A currency defined at the optimum POG eliminates inflation and deflation. A change in the spot POG rising above optimum indicates an inflationary trend. A change in the spot POG falling below optimum, a deflationary trend. On a gold standard, the optimum and spot POG is always the same.

The more stable a currency, the longer its duration of debt. With a stable currency, counterparties can engage in long-term contracts without added risk premia. Great Britain issued Consol bonds of unlimited length in the 19th century during the height of its gold standard that had achieved stable money for over 100 years. Jude Wanniski estimated that the duration of debt of the dollar at the end of Bretton Woods was 25 years. Today, after 50 years of dollar devaluation, I estimate it is 10 years. This is a wag, but it worked almost exactly to define the intersection of spot and optimum in 2015. Mexico, with its continuous peso devaluations, may have a duration of debt of a couple of years–if that much. Weimar Germany, at the height of its hyperinflation, had a duration of debt of minutes. The cost of a Weimar lunch could change between the time you ordered it and received it.

Using an estimated duration of debt of 10 years, the optimum POG is the 10 yma. Today it is at $1365. This means that the dollar can be linked to gold at $1365, debtors and creditors will be in balance, inflation and deflation eliminated, and a gold standard resumed 50 years after the end of Bretton Woods without economic disruption. A return to a stable dollar is not difficult in the current monetary environment. The more the Fed devalues, the greater the economic disruption, and the more difficult it becomes. 


The spot POG relative to optimum is the foundation for understanding our macro monetary world amid unprecedented central bank policy actions. An Inflationary Contraction IV will look at how to view the Covid-19 economic contraction within the lens of stable money defined by a monetary reference.

An Inflationary Contraction

An Inflationary Contraction II

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