The Monetary Reference

Understanding Gold 2

Gold gets dug out of the ground in Africa, or some place. Then we melt it down, dig another hole, bury it again and pay people to stand around guarding it. It has no utility. Anyone watching from Mars would be scratching their head.  –Warren Buffett

The utility of gold can be confusing, even if you are the world’s greatest investor.  Warren might find Polaris, the North Star, confusing also.  It is just another star among thousands visible by the naked eye, yet it holds special recognition in the field of astronomy.  It sits fixed above planet earth at the north celestial pole while the other stars of the Northern sky are in constant motion, rotating about it.  The North Star appears motionless, moving exactly nowhere in relation to anyone’s position above the equator on planet earth.  What utility is that?  Yet in addition to its celestial uniqueness, the North Star is celebrated in literature, poetry, and song.  Is anyone watching from Mars scratching their head over that?

The North Star provides a fixed reference point for celestial navigation and astronomy.  Without the North Star’s easily visible, fixed reference point to determine true north and latitude, the difficulty of early navigation and exploration is not hard to imagine.  Progress in exploring planet earth would have been a random, haphazard affair.  Navigation would have required constantly changing, elaborate astronomical calculations, dead reckoning courses, and visual landmarks.  Crossing the ocean would have been an exercise in luck.  Without the North Star to guide courses and define routes, each subsequent crossing would have been a new effort that could not be built upon previous efforts.  Mapping the earth without easily definable latitude would have been orders of magnitude more difficult.  Land and sea exploration would have been a shot in the dark requiring incremental progress.  Blindly exploring the planet without defined coordinates would have set back exploration history.  Similarly, air travel would not exist as we know it today, without the benefit of celestial navigation’s defined coordinates.  Without Polaris, the rapid advancement, technological progress, and standard of living we take for granted today would exist in the minds of futurists.  We take the North Star for granted, it has always been there, but planet earth needs a single, easily visible celestial reference for navigational guidance and measurement.  Povidently, we have been given it. 

For the same reason, the monetary universe needs a single fixed reference upon which to value the galaxy of goods and services.  Without a fixed monetary reference, economic progress becomes haphazard.  Commerce and trade become inefficient, chaotic, and more costly. Contracts require costly risk premiums to compensate for the constantly changing value of fiat currencies.  In modern, technologically advanced economies, fluctuating interest and foreign exchange rates necessitate the creation of complex derivatives.  The trading of goods and services becomes secondary to the financial engineering required to navigate fiat currency chaos.  Today, 45 years after President Nixon ended the Bretton-Woods international monetary system, we live with monetary chaos.  Traders, for no productive reason, churn $5.3 trillion in foreign exchange currency every day.  This is greater than the value of the globe’s stock markets and far exceeds the trade in goods and services.  Financialization diminishes economic progress by directing resources toward unproductive activity. Capital is misallocated and economic distortion rules the markets.  Wages, which are employment contracts of set durations, are subject to the whims of central bank currency managers.  Since the proclivity of central bank managers, without the constraint of a fixed reference point, is to always create more money and hence devalue, wages lose earning power accordingly.  Devaluation cheats savers and fixed pensioners of their earnings and retirement promises.  Progressive tax rates, an idea based on fairness for the lower classes, negatively impact them the most during monetary devaluations.  Devaluation forces all income earners into higher tax brackets even while the real value of earned income declines.  Progressive tax rates become the cruelest and least fair economic policy to those most in need—exactly the opposite of policy intention.  Without the fixed monetary reference of gold, the standard of living of the vast productive class declines accordingly.

All the attributes of a fixed celestial reference apply to the monetary world.  The global central banks have set a dead reckoning course for the value of fiat currency.  They have no true reference and their floating degree of error is enormous.  Without a fixed monetary reference, chaos ultimately prevails.  We can only see what is in front of us, but fail to imagine what is lost— the next medical advance, cancer cure, or technological leap.  There is no way to quantify the real impact on our standard of living and quality of life from the loss of economic progress due to monetary chaos.  

Gold’s utility is a result of its unique properties.   Mankind has selected gold as the monetary proxy because of these properties.  It is why gold gets dug out of the ground and still retains its same allure, to the confusion of some.  Gold’s utility is that it provides a fixed monetary reference exactly equivalent to the celestial world’s North Star.  Like the North Star, gold exists as a fixed reference for planet earth.  Gold is the monetary Polaris.

Next in Understanding Gold – The Properties of Gold

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